Investing Advice from the Best Performer Among Endowments, Pensions, and Foundations

David Swensen has been investment manager of Yale's endowment for 21 years. Over that time he's averaged a 16% annual return, better than any other endowment, pension, or foundation over that time period. Yale's $18 billion endowment is noted for including investments in many alternative areas, such as private equity, venture capital, timber, and oil and gas. So, it's worth noting that his advice to us as individual investors in his book Unconventional Success is . . . to buy index funds.

The article accompanying his recent NPR interview lays out his basic advice:

• Beware of the Mutual Fund Myth. Swensen is especially critical of actively managed mutual funds run by for profit companies. He points out that they have an inherent conflict of interest. Basically they make money by charging us fees which take away from our profits. Most mutual funds are also far too big and own too many stocks. When you add in commissions and the effect of market impact from all the trading to the fees and taxes incurred, he figures you only have a 1 in 100 chance of beating the market with an actively managed mutual fund.


• Invest in Non-Profit Index Funds. Since you're unlikely to beat the market in an actively managed fund, he suggests investing in low-cost index funds from a non-profit company. I guess Vanguard's the one that comes to mind. I don't know of any other non-profit mutual fund companies. There are other index funds and ETFs that also have very low costs, so those might be appropriate as well, although I don't know if Swensen has reasons for recommending a non-profit other than cost.


• Pick the Right Investment Mix and Keep Your Money There. Don't try to to time the market and increase your bets on bonds, for example, at the expense of U.S. stocks. In doing so, you're effectively saying that you're going to beat the professionals who manage billions of dollars. As noted in the NPR interview, "Swensen has a team of 20 analysts -- and a small army of boutique investment houses -- working long hours to predict which way certain market segments or individual stocks will move. Who do you think is going to buy and sell at the right time? Remember: If somebody buys low and sells high, somebody else is buying high from them. You don't want to be that person."


• Rebalance Your Portfolio Regularly. This means selling funds that have done well and buying ones that haven't to bring them back to your initial allocation. In doing so, you'll have bought more shares of the ones that had been down and can take advantage of that as they come back.

Of course, each individual's situation is different so it's impossible to define an appropriate asset allocation for everyone, but Swensen at least makes a suggestion that would be appropriate for many long term investors. He suggests (along with a Vanguard suggestion for the each allocation):

• 30% in Domestic Equity.  Vanguard Total Stock Market Index Fund (VTSMX).


• 5% in Emerging Markets Equity.  Vanguard Emerging Markets Stock Index Fund (VEIEX).


• 15% in Foreign Developed Equity.  Vanguard Total International Stock Index Fund (VGTSX).


• 20% in REITs.  Vanguard REIT Index Fund (VGSIX).


• 15% in U.S. Treasury Notes and Bonds.  Vanguard Short-Term Treasury Fund (VFISX), Vanguard Intermediate-Term Treasury Fund (VFITX), and Vanguard Long-Term Treasury Fund (VUSTX)


• 15% in U.S. Treasury Inflation-Protection Securities (TIPS). Vanguard Inflation-Protected Securities Fund (VIPSX)

That's it.  In 6-8 funds, he lays out a low-cost portfolio that he expects would beat the vast majority of portfolios out there, whether professionally managed or not.  I think it's a great starting point.  If you're not already well diversified across the above categories, it's definitely worth taking a look at this as a basis for a sound portfolio.